Sears’ Moves Shift Focus to Stores

Sears’ decision to put its credit card operations on the block resonated with investors Wednesday, as it said that it was evaluating alternatives.

NEW YORK — Sears, Roebuck & Co.’s decision to put its credit card operations on the block resonated with investors Wednesday, but is certain to turn up the heat on the firm to make its somewhat tarnished retail operations shine once again.

Sears said it was “evaluating strategic alternatives” so it can focus on its profitable core retail and related services business. The company expects to finalize a transaction during the second half of fiscal 2003.

Shares catapulted $2.69, or 12.5 percent, to close at $24.14 in New York Stock Exchange trading Wednesday. Volume was nearly seven times its daily average.

In a conference call with Wall Street analysts, Alan Lacy, chairman and chief executive officer, said, “The market has had difficulty in properly valuating Sears’ unique combination of assets. A sale would allow us to unlock the tremendous value and earnings power of these assets.”

Reports circulated Wednesday that a sale of the entire credit card operation could fetch between $6 billion and $7 billion. Lacy, a veteran of Sears’ credit operations, declined comment, except to say that the retailer “expected to receive an appropriate premium” over book value for the business. He added that one option being explored is the sale of just the Sears Gold MasterCard unit.

Lacy said that Sears’ Credit and Financial Products business manages the eighth largest credit card portfolio in the U.S., with $30.8 billion in card receivables at the end of 2002 and 25 million active accounts. The business also includes the nation’s largest in-house proprietary card portfolio with $18.4 billion in its blue Sears Card receivables and $12.4 billion in its Gold MasterCard receivables. The business generated more than $1.5 billion of comparable operating income last year, and is on track to deliver on plan this year, Lacy said.

“The strength of the business and broad customer base create strategic value to a number of potential buyers,” the ceo noted.

He told analysts that while credit is an integral part of its business, “owning the business is not critical.”

The ceo said that lately, there’s been shift in the number of retail credit providers, unlike years ago when Sears entered the business. “Today, most retailers have a relationship with third-party providers to run the business” who can provide both “economies of scale and a high level of customer service.”

In last year’s final quarter, operating income in Sears’ retail unit rose 9.7 percent to $662 million as sales, plumped up by the acquisition of Lands’ End, advanced 2.8 percent to $9.73 billion. Operating income on the credit side fell 14.8 percent, to $363 million, on revenues that rose 4.4 percent to $1.39 billion during the 13-week period. An upward adjustment in Sears’ credit reserves and related charges during the quarter had led to the first major crisis of Lacy’s tenure, which began in December 2000.

Jeffrey Hornstein, managing director at Peter J. Solomon Inc., said that the divestiture of the credit operations “makes sense because the financial markets had never known whether to value Sears as a financial company or as a retailer. Sears felt undervalued in the market and the company is probably correct. By unlocking the value of the credit card business, Sears can get Wall Street to focus on the retail operation. They are making what is considered a smart move.”

As reported, Saks Inc. and J.C. Penney are among the retailers that have divested themselves of their credit card portfolios. With an eye toward increasing its financial flexibility, Saks last year sold the majority of its private label credit card accounts and balances to Household International for $1.4 billion.

Lacy said that it was likely some aspect of credit operations “would be retained by Sears.…An element of our expense [is] going to the support of the credit business” and the company would similarly provide for that going forward.

The ceo also emphasized that the profitability of the sale will generate free cash flow above the current dividend requirement, now at 92 cents a share. “We are not capital or cash-flow constrained,” he pointed out, adding that the decision to review operations was unaffected by the recent one-time charge in connection with the credit card business.

Although such a move frees a retailer to focus on retailing and removes some of the risk that comes with credit operations, particularly in a tough economy, it also deprives retailers of something of a fiscal umbrella in the event of poor store-related results.

Retailers including Target and Kohl’s continue to run their own credit card businesses. However, their operations are a much smaller part of total operations compared with those of Sears, financial sources noted.

Robert Passikoff, president of Brand Keys, a consumer research firm, observed that while proprietary credit card operations can be a big business, retailers really need to separate the credit business from the retail side of operations.

“Whether the economy is good or bad, proprietary credit cards are the ones that get paid last. When times are tough, it is the minimum payments on the Visa, MasterCard and American Express cards that get paid first. This was what happened to Spiegel where the chargeoffs put them in the tank,” he said.

Passikoff noted that one problem for retailers who own their own operations is the risk of not providing for enough reserves to cover the chargeoffs.